GAVI's business model

Owen Barder takes issue with the following:

GAVI’s business model is based on the expectation that rising demand for immunisation in developing countries induces more companies to produce vaccines, thus creating competition and driving prices down.

Whilst I applaud Owen's analysis, I can't help thinking he's missing something. I doubt GAVI have in mind what I'm about to say (and therefore Owen's point is 100% valid), but I think there is a way to reconcile the above statement. The problem is that Owen uses comparative statics to make his case. Whilst the basic laws of supply and demand are the right way to answer this question, they tend to focus on the short term consequences and obfuscate any notion of process. This debate gets to the very heart of the distinction between Neoclassical economics and Austrian-school thinking which is, as Mario Rozzo points out, concerned with:

(5) the dynamic market processes generated by individual action, especially entrepreneurship; (6) the function of the price system in transmitting knowledge;

If you take a dynamic view of entrepreneurship GAVI's model stands up. They are assuming that rising demand "induces more companies to produce vaccines" - this is correct, and for the reasons Owen mentions. Prices rise, profits rise. These profits are a signal for two things: (i) existing companies increase production; (ii) new entrants to compete for the profits. The effect of this, as Owen quite rightly demonstrates, is a movement along the supply curve, i.e. an increase in quantity supplied (and not an increase in supply).

However, the dynamic effects of "creating competition" is innovation. There is an incentive for existing companies to economize on cost (there might be a learning-by-doing efficiency that leads to radically cheaper forms of production). There is an incentive for new companies to invent new types of immunization, or new ways of delivering them (after all it's reasonable to assume they'd only enter the market if they had some for of competitive advantage, and this might indeed be technological). Company X might be sitting on a revolutionary new type of vaccine, but it's unprofitable in the existing market. Only if there's an increase in demand would it make sense for them to launch the product. The profit motive spurs these things into place.

The effect of this process (which is ultimately the process of entrepreneurship) *is* an outward shift in the supply curve, "driving prices down".

This explanation should fit easily with intuition. I'd suggest that most technology products fit into the GAVI model - increasing demand creates incentives for new producers to innovate, this innovation leads ultimately to falling prices. I would strongly expect that as heart disease increases across the developed world, increasing the demand for treatment, the price of treatment will fall. It's a remarkable outcome of capitalism that the greater the demand for goods, the cheaper they become.

I don't doubt for a minute that GAVI didn't have this Austrian-style process in mind, and therefore are fair game for Owen's technically correct critique. But by focusing on static analysis Owen is missing the bigger picture - the real process of entrepreneurship that delivers the outcome GAVI suggest.

Update: see the correspondence between Owen and myself at his blog. Whenever someone says "lets agree to disagree" or appeals to differences in schools of thought, I become suspicious. Neoclassicists and Austrians alike are using the same tools to answer such questions. The difference is whether you take a static view or a process-driven one. I believe Owen is demonstrating the limits of blackboard theorising. Owen boldly claimed:

I defy GAVI to produce an analytical model that underpins their “business model” as they describe it above.

I believe that i've done this, and GAVI can feel free to use it.

Comments

[tomslee]

I see why you disagree with Owen Barder, but isn't patent protection a key to this discussion and doesn't it cause a problem for your analysis? Aren't you assuming that there are no big barriers to entry in the vaccination business?

[aje]

I won't claim to be an expert on the vaccination business so I'm sure you're making a valid point. Generally speaking yes, patent protections create barriers to entry and they should be significantly curtailed.

[Niche Generator]

I agree with Owen Barder. I think you are mistaken.

[rüya tabirleri]

I see why you disagree with Owen Barder, but isn't patent protection a key to this discussion and doesn't rüya tabirleri it cause a problem for your analysis? Aren't you assuming that there are no big barriers to entry in the vaccination business?

[ktunnel]

I see why you disagree with Owen Barder, but isn't patent protection a key to this discussion and doesn't ktunnel it cause a problem for your analysis? Aren't you assuming that there are no big barriers to entry in the vaccination business?

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